UPDATE 1-BoE considered Jan rate rise, 2 vote for hike-minutes

Wed Jan 26, 2011 5:10am EST

* Weale joins Sentance in January rate rise call

* MPC considers "finely balanced" case for Jan rate rise

* MPC worried Jan move would imply rapid rises, hurt growth

(Adds reaction, context)

By Fiona Shaikh and David Milliken

LONDON, Jan 26 (Reuters) - Bank of England policymaker Martin Weale unexpectedly joined Andrew Sentance in voting for a quarter-point rate rise this month, and the Monetary Policy Committee as a whole considered the case for tighter policy.

Minutes to the BoE's Jan. 12-13 MPC meeting published on Wednesday showed that the decision to leave rates unchanged was "finely balanced" for some members and that February's inflation report would help them assess the outlook for prices.

Sterling rose on the prospect of an earlier BoE rate rise -- although the policy deliberations took place before it was known that Britain's economy unexpectedly shrank 0.5 percent in the last three months of 2010.

"The cracks are starting to appear in the MPC consensus," said Brian Hilliard, economist at Societe Generale. "Not only did Weale vote for a rate increase, there's a hint that other members were teetering on the brink of doing that as well."

Inflation hit an eight-month high of 3.7 percent in December and was at least a percentage point above its 2 percent target throughout 2010, causing some economists to question the central bank's inflation-fighting zeal.

The minutes said inflation was likely to be "materially higher" in the short term than the MPC had thought in November, and late on Tuesday BoE Governor Mervyn King said in a speech that it could rise toward 5 percent in the coming months.

Policymakers saw longer-term challenges as well from rising commodity prices and import costs.

"For most members, recent developments implied that the risks to inflation in the medium term had probably shifted upwards," the minutes said.

DOWNSIDE RISKS

However, the MPC opted to keep rates on hold, citing downside risks to inflation from spare capacity, fiscal austerity, a potential jolt to exports from the euro zone crisis as well as tight credit conditions.

"Some members also noted that an increase in Bank Rate ... might be misinterpreted as a signal that the Committee would attempt to bring inflation back to target excessively rapidly, which could cause expectations of a relatively sharp tightening of monetary policy that could have a detrimental impact."

The MPC had access to an early estimate of December's 3.7 percent inflation reading but did not know about the scale of the impact on growth from December's harsh weather.

Their expectation was that the economy would grow roughly in line with trend in late 2010 and early 2011, despite snow in December and a rise in value added tax in January.

Markets savagely pruned back their expectations for an early BoE rate rise after the release of the GDP data on Tuesday, and the minutes only partially restored the view that rates could rise in the first half of the year.

Adam Posen repeated his call for a 50 billion pound expansion of the central bank's quantitative easing programme, though he noted that a sustained rise in commodity prices or weaker sterling could outweigh downward domestic price pressures.

Other members of the MPC saw upside risks to inflation from commodity prices, strong growth in emerging markets that could push up the cost of imports and rising household inflation expectations.

The publication of the minutes came after BoE Governor King said on Tuesday that high short-term inflation alone was not enough to justify an immediate rise in interest rates, and that future moves would have to be "careful and well judged".

He also said the BoE could preserve its credibility if it explained its decisions well, and that large relative price shocks were an inevitable part of the economy's rebalancing. [ID:nSLAPCE7NL]

(Editing by Toby Chopra)

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